FACULTY OF COMMERCE

STUDENT NAME: NGOMBE TALENT

REG NUMBER: N0173473L (CONVENTIONAL)
DEPARTMENT: FINANCE
YEAR: 2021
RESEARCH PROPOSAL: IMPACT OF CREDIT RISK ON
PERFORMANCE OF COMMERCIAL BANKS IN ZIMBABWE
1.0 Introduction

This chapter provides an introduction into the study`s focus areas. It starts with the
background of the study, and the statement of the problem highlighting why the research area
was chosen. The objectives of carrying out the study are also included together with the
research questions to be answered. The research`s significance to various stakeholders in the
economy is also detailed herein. Subsequently, the hypotheses of the study are stated as well
as a brief overview of the ensuing chapter.

1.1 Background of the study

The Zimbabwean banking sector has been through a tumultuous period over the last decade.
(Makoni, 2010) observes that in the late 1990s and at the turn of the 21th century, the
Zimbabwean economy was troubled by hyperinflation, resulting in declining savings from
depositors and forcing many banks to use other sources to fund their lending. With the
deepening of the crisis and imminence of the collapse of the banking sector, a temporary
withdrawal of its function as the lender of last resort was announced by the central bank in
December 2003. (Mambondiani, et al., 2013) opine that the departure of the central bank
from its previous approach of forbearance put a number of banks into liquidity crisis.
Subsequently, 13 banking institutions collapsed, all of which were indigenous, licensed after
the financial liberalisation of 1991. Since then there has been at least one banking crisis each
year up to 2009 when dollarization was introduced; caused by poor corporate governance
practices, inadequate supervision and monitoring by the central bank, liquidity constraints
and a generally tough operating environment (Mambondiani, 2012)

1.2 Statement of the Problem

There has been observed cases of banks that have recorded losses attributable to credit
impairments and high loan-loss provisioning. For instance, (RBZ, 2014) observes that a total
of 12 banks recorded profits for the period ended 30 June 2014 and that the losses suffered by
the other banks were among other factors, attributable to high levels of NPLs. As more and
more companies default on their loan obligations, banks are prejudiced as they are deprived
of financial resources that could otherwise have been profitably invested in other key sectors
of the economy. No senior management of today's financial institutions can perform their
functions without a vastly expanded understanding of the dimensions of risk and the various
tools to manage it (Haneef, et al., 2012). Consequently this study seeks to establish the link
between effective credit risk management, and the profitability of banks using a sample of
selected banks in Zimbabwe and assess how active credit risk management can be used as a
tool for enhancing efficient banking operations.

1.3 Objectives of the Study

1.To analyse the impact of credit risk on performance of commercial banks in Zimbabwe.

2.To determine the causes of NPLs in commercial banks of Zimbabwe.

3. To analyse relationship between the debt recovery strategies that used by Zimbabwean
banks and the levels of Non-Performing loans.

4. To analyse the strategies that can be used to curb the problem of rising Non-performing
Loans in the Zimbabwean context.

1.4 Research Questions

i. Is there any relationship between effective credit risk and the improved profitability of
banks?

ii. What are the causes of NPLs on commercial banks in Zimbabwe?

iii. Is the any relationship between debt recovery strategies and levels of NPLs in
commercial banks in Zimbabwe?

iv. What are the strategies that Zimbabwean banks can use to recover delinquent loans?

1.6 Significance of the study

The credit risk departments of the bank try as much as possible to offer calculated risks and
come up with a proper analysis of anyone who wants to borrow. However, at the end of the
day, banks still struggle with bad debt which leads to growth of NPLs of the bank. If the risks
posed by NPLs are not tamed, a bank can go under (Rzehak, et al., 2011). This research will
be of interest to several stakeholders within and outside the banking sector.
1.6.1 Banking Institutions
Like most financial institutions, banks are involved in the business of risk. They face many
risks that if not adequately analysed and mitigated against, these risks can affect the financial
performance of the banking institutions. In Zimbabwe, as the trend of rising Non-Performing
Loans has been on the rise, banks have seen their performance adversely affected as they
have had to see potential earnings being written down as bad debts. This study will therefore
help banking institutions manage credit risk effectively in their operations such that they meet
their set business objectives.

1.6.2 Regulatory Institutions

The research will be of particular importance to Zimbabwean regulatory authorities such as
the central bank (RBZ) as it will help them come up with more effective credit risk
management frameworks that can be employed by market partakers. Furthermore, their
supervisory function will be enhanced as an increased understanding of the risks that
commercial banks are exposed to in light of the dynamic financial services sector will be
analysed in the study. Potential areas of firming the banking sector credit risk management
regulatory framework will also be identified by the information in this research.

1.6.3 Government
A healthy financial services sector underpinned by sound banking institutions is a vital
component for sustained economic growth and development. (Haneef, et al., (2012) posits
that it is a fact that NPLs are steadily causing lesser profitability of banking sector, as the
spread of banks is shrinking due to the lower recovery of loans and decreasing yield on
lending. It holds that as banks cut back on lending, economic growth will be stifled as the key
engines of growth will not be funded. Government will thus benefit from this by gaining a
better appreciation of the credit risks banks face, so as to be guided when making certain
market interventions like directing banks to lend to a particular industry as it has done in the
past. Hence government will gain from more knowledge of the full evidences of directing
bank lending to specific economic sectors as well as the risks thereof through, a full
understanding of credit risk management and how it affects bank viability (performance). The
net result is government will have a compact platform on which to pursue its economic
growth and recovery policies.
1.6.4 Public
Over the years, Zimbabwe`s banking sector has been assailed by a massive confidence
discrepancy the public has on the banking sector as a whole. As rising Non-Performing Loans
loom the stability of banks by affecting profitability and growth, any bank failures as a result
of this will further corrode public confidence. Hence the public will benefit from this study
through acquiring an enhanced understanding of the stability, credit standing, riskiness and
overall health of banking institutions which they are clients of. This knowledge will equip the
public to make informed decisions on which banks to use and which ones to avoid basing on
their levels of NPLs and profitability.

1.7 Brief Literature

In this chapter, the researcher will present the theoretical foundation for the study by
providing relevant literature pertaining to credit risk management and profitability of
commercial banks.

This chapter will cover the following areas: explanation of credit, credit risk, risks in baking,
credit risk in the banking system, sources of credit risk and credit risk management.

Credit

Credit is defined by the Economist Dictionary of Economics as “the use or possession of

goods or services without immediate payment” and it “enables a producer to bridge the gap
between the production and sale of goods” and “virtually all exchange in manufacturing,
industry and services is conducted on credit”. (Colquitt 2007, 2)

Credit risk

Credit risk occurs when the debtor cannot repay part or whole of the debt to the creditor as
agreed in the mutual contract. More formally, “credit risk arises whenever a lender is exposed
to loss from a borrower, counterparty, or an obligor who fails to honor their debt obligation as
they have agreed or contracted”. This loss may derive from deterioration in the counterparty’s
credit quality, which consequently leads to a loss to the value of the debt. (Colquitt 2007, 1)
Or in the worst case, the borrower defaults when he/she is unwilling or unable to fulfill the
obligations (Crouhy et al. 2006, 29).

In banks, credit failures are not rare and they critically affect the bank’s liquidity, cash flows
and eventually, profit and shareholders’ dividends. Banks call them ‘bad debts’. Modern
banking no longer experiences credit risk solely in its traditional activity of loan making. In
reality, credit risk falls in a broader scope. For instance, a well-known British banking group
sees that the group’s credit risk may take the following forms:

 Lending: funds are not repaid

 Guarantees or bonds: Funds are not ready upon collection of the liability
 Treasury products: payments due from the counterparty under the contract is not
forthcoming or ceases
 Trading businesses: settlement will not be effected
 Insurance risks reinsured: the reinsurance counterparty will be unwilling or unable to
meet its commitments
 Cross-border exposure: the availability and free transfer of currency is restricted or
ceases

Risks in Banking
(Bessis, 2002) posits that risk management in banking designates the entire set of risk
management processes and models allowing banks to implement risk-based policies and
practices. They cover all techniques and management tools required for measuring,
monitoring and controlling risks. The spectrum of models and processes extends to all risks:
credit risk, market risk, interest rate risk, liquidity risk and operational risk, to mention only
major areas.

Risk management is recognized in today’s business world as an integral part of good

management practice. In its broadest sense, it entails the systematic application of
management policies, procedures and practices to the tasks of identifying, analysing,
assessing, treating and monitoring risk (Haneef, et al., 2012).

Koch & Macdonald, 2014) posit that commercial banks’ risks can be identified as six types:
credit risk, liquidity risk, market risk, operational risk, reputation risk and legal risk. Each of
these risks might harmfully influence the financial institution’s profitability, market value,
liabilities and shareholder’s equity.
Given all these bank risks, (Boudriga, et al., 2009) identify credit risk as singularly the
greatest risk on bank’s performance. It is the risk that counterparties in loan transactions and
derivatives transactions might default, which means counterparties fail to repay the principal
and interest on a timely basis (Koch & Macdonald, 2014). This argument has merit in
Zimbabwe`s case as a build-up of toxic loans since dollarisation in 2009 have necessitated the
formation of Zimbabwe Asset Management Company (ZAMCO) to clean up commercial
bank balance sheets by buying the Non Performing Loans of banks. This signifies that the
regulatory authorities in Zimbabwe also view credit risk as a potential hindrance to the
effective operations of banks in Zimbabwe.

Credit risk in the banking system

Credit risk is the potential loss in the event of default of a borrower, or in the event of
deterioration in credit standing (Bessis, 2002). He further asserts that credit risk is generally
underpinned by three major risk components: ‘Exposure at Default’ (EAD), default
probabilities (DP) and loss given default (LGD). Exposure characterizes the amount at risk,
default and migration probabilities characterize the chances of defaulting and migrating
across risk classes, recoveries reduce the loss under default. The ultimate issue in credit risk
management thus pertains to the following: what are the chances of losses and the
magnitudes of losses?

(Nawaz, et al., 2012) define credit risk as the current and prospective risk to earnings or
capital arising from an obligor’s failure to meet the terms of any contract with the bank or
otherwise to perform as agreed. Credit risk is found in all activities in which success depends
on the counterparty, issuers, or borrower performance. It arises any time bank funds are
extended, committed, invested, or otherwise exposed through actual or implied contractual
agreements, whether reflected on or off the balance sheet. Thus risk is determined by factors
extraneous to the bank such as general unemployment levels, changing socio-economic
conditions, debtors‟ attitudes and political issues.

Furthermore, the Basel Committee on Banking Supervision- (Basel, 1999) define credit risk
as the potential that a bank borrower or counterparty will fail to meet its obligations in
accordance with agreed terms. (Gastineau, 1992) concurs with this definition and views credit
risk as the possibility of losing the outstanding loan partially or totally, due to credit events
(default risk). Credit events usually include events such as bankruptcy, failure to pay a due
obligation, repudiation/moratorium or credit rating change and restructure.
Sources of credit risk

For most banks, loans are the largest and most obvious source of credit risk; however, other
sources of credit risk exist throughout the activities of a bank, including in the banking book
and in the trading book, and both on and off the balance sheet. Banks are increasingly facing
credit risk (or counterparty risk) in various financial instruments other than loans, including
acceptances, inter-bank transactions, trade financing, foreign exchange transactions, financial
futures, swaps, bonds, equities, options, and in the extension of commitments and guarantees,
and the settlement of transactions, and credit risk transfer (Hui-Cui, 2008).

(Kitua, 1996) concurs with (Hui-Cui, 2008) in her observation that loans constitute a large
portion of credit risk as they normally account for 10-15 times the equity of a bank. (Mavhiki,
et al., 2012) further add that the banking business is likely to face difficulties when there is a
slight deterioration in the quality of loans. (Brownbridge, 1998) opines that problems such as
these are more acute in developing countries where the problem often begins right at the loan
application stage and increases further at the loan approval, monitoring and controlling
stages, especially when credit risk management guidelines in terms of policy and procedures
for credit processing do not exist or are weak and incomplete.

(BIS, 2015) suggests that credit risk results from lending across all sectors through lending
products such as traditional bank lending and direct lending by non-banks. Banking
supervisors noted that, as the most traditional product in the banking sector, loans to the
corporate sector are one of the largest sources of credit risk in particular. The implication
thereof is that loans to medium sector companies are vital in the management of credit risk.

Credit risk management

In banking, credit risk is taken for granted as a fundamental feature of the institutions. If an
organization refuses to acknowledge the inherent risk, it is not in the lending industry.
Wherever risk survives, its enemy, risk management, will also exist and fight against it.
Credit risk management is simply the procedures implemented by organizations with the aim
of diminishing or avoiding credit risk.

Credit risk management has been a hot topic of debate as it is one of the fastest evolving
practices thanks to institutional developments in the credit market, diversification of financial
institutions participating in the lending business and modern technologies.
1.8 Research Methodology

Research methodology is a philosophical framework for any research (White 2003, 20). It
contains the data used and the research data collection techniques.

Research design

According to Yin (2006), the research design is a framework that links the empirical data to
the study’s questions, right up to the findings and its conclusions. It gives the researcher a
roadmap in the data gathering, analysis, presentation and interpretation processes and in the
process, allows the researcher to draw inferences and relationships between the dependent
and independent variables under investigation (Yin, 2006). The choice of an appropriate
research design takes consideration of the relevance of all the possible designs to the
objectives of the study, as well as the setting and environment in which the study is
conducted.

Research design
The researcher made use of a quantitative research design. Such a design does not require direct
observation amongst its advantages hence was suitable during the Covid19 pandemic. Such an
approach encompasses numeric data which produces statistical models through use of quantitative
variables. This research design had been adopted due to its ability to provide further insight into
research problem by describing the variables of interest which include the measure of Fintech and
bank performance. The research design used secondary sources of data derived from reports, official
records, financial statements and authentic archives. The data obtained was compared with central
banks’ regulatory reports to ascertain validity and authenticity.

Research Methods
Research methods can be broadly classified into two distinct groups, qualitative and
quantitative research methods. According to (Bryman & Bell, 2011), quantitative research
emphasizes quantification of the data collection and analysis. Usually, quantitative research
conducts a deductive approach to the relationship between theory and research which focus
on testing of theory (Bryman & Bell, 2011).

This research is predominantly a quantitative research relying primarily on financial data and
ratios obtained from annual reports and audited financial statements of the sample banks
under study. Questionnaires are also used to compliment the secondary data obtained from
annual reports and financial statements. Findings from the interviews and questionnaires are
will be used to compare and contrast the results of the statistical analysis.

Qualitative research is not appropriate for this study since it emphasizes the words rather than
quantification of data. It prefers conducting an inductive approach to the relationship between
theory and research which aims on the generation of theories.

Population and Sample

The study population for the purposes of this research consists of the 16 Commercial Banking
Institutions in Zimbabwe as at 31 December 2014.

Sample Design

The researcher will choose a representative sample from the population to get information
from. This will be deemed to be a true reflection of the whole population, so the results are to
be interpreted with this in mind. Questionnaires are to be sent to these selected sample
population as well as other banking institutions.

A purposive sampling approach was used in selecting sample banks with available data in
their published financial statements. The working sample population was subsequently drawn
from the total study population of Zimbabwe`s Commercial Banks. This helps in improving
the reliability of the research, data as well as the results thereof. Furthermore, the NPL to
Total Loan Advances metric was also used in coming up with the sample population from the
study population

Sample Population

Data Collection

The major source of data for the purposes of analysing the relationship between credit risk
management and profitability of commercial banks was secondary data obtained in the
audited financial statements, annual reports and financial results of the selected commercial
banks. Primary data collected through questionnaires will also be used to provide a basis for
comparison with the results obtained from secondary data collection.

Sources of Primary Data

Primary data for this research will be collected using questionnaires. The information
obtained from the primary data collection through the use of questionnaires will be used to
compliment empirical findings from regression analysis as well as providing a basis for
comparison. Questionnaires will be sent out to credit officers of commercial banks in
Zimbabwe.

Primary data is also considered to be more up to date and has close proximity to the truth.
Also, the primary data gathered fits well and relevant in the achievement of objects for this
research. This is because data is gathered from the people who are aware of the area covered
under this study. However, it is time consuming to gather as it involves booking of
appointments in terms of interviews and the data is expensive to gather because of traveling
to and from the area of study. Furthermore, the cost element therefore means that the whole
population will not be interviewed or questioned, however the sample population will be
chosen and is assumed to be a true reflection of the whole population.

Sources of Secondary Data

In order to effectively perform the regression analysis, collection of the data for the variables
that are going to used needs to be collected. The variables to be used are ROE, CAR, CLA
NPLR and Size of the bank as a control variable. These data are obtainable from the audited
financial statements as well as company annual reports of the selected banks. The data
gathered was sourced additionally from the internet, textbooks, publications and journals. The
data was found more quickly and cheaply because the researcher used the library resources
and the internet.

However, secondary data posed problems for the researcher in that, the secondary data
previously gathered is not always accurate in addressing the problem since in some cases, it
was collected for different purposes such as assessing debt recovery tools as an operational
strategy for banks in Nigeria. Again, some of the data were out-dated since some journal
articles have been written over the past decades.

Data collection methods

For the research to fully explore the value of the impact of credit risk on bank performance, relevant
material will be required and to get hold of the data, the researcher will use secondary sources of
data. The data encompassed online journals and publications with documents obtained from IMF
and World bank statistics, Monetary Policy Statements (MPSs) and FRED statistics among other
authenticated sources. The measure of credit risk will be mobile banking and it used data from
World bank, Monetary policy statements as well as Reserve Bank of Zimbabwe on transactional
volumes figures. Whilst data for the dependent variable, bank performance measured by bank’s
Return On Assets (ROA) was obtained from the IMF databases and FRED statistics from period 2012-
2019.

The researcher collected facts assembled for the current research largely through secondary data at
hand prior to the research which was collected for other purposes but could still be used to obtain
information concerning the subject under investigation. It took the form of publications made on the
topic by other researchers and hence did not specifically deal with the current research problem.

1.9 Scope of the study

The study sought to analyse and critically evaluate the impact of credit risk management on
performance of commercial banks in Zimbabwe. The research was based mainly on a survey
of five banks in Bulawayo, Zimbabwe.

1.10 Limitation of the study

There are considerable setbacks and constraints the researcher will be subject to when
carrying out the study and these will impact on the objectivity and dependability of the
results. These constraints include the following:

 Data on banking systems is very sensitive, and as a result obtaining such data was a
very difficult task. The researcher obtained the data on condition that the data was
treated with utmost confidentiality and that that the data was supposed to be used for
the purposes of the research only.
 The Zimbabwean macro-economic landscape is quite unique, and some of the
literature that is available might not be applicable in the Zimbabwean context.
 Some respondents could not attend to the questionnaires either as a result of busy
work schedules or attitude problems.

1.11 Research ethics and data credibility

Some key ethical considerations were taken into account in conducting the research.
Participation to this research was voluntary and confidentiality was maintained on the data
obtained from the participants. The responses were kept and treated with utmost
confidentiality. The respondents were asked not to provide their names or identification, to
avoid possible harassment and intimidation of the respondents.

Joppe (2000), defines credibility as the extent to which results are consistent over time as
well as the extent to which they accurately represent the absolute population. A research
instrument is valid if the results of any given study can be reproduced using a similar
methodology.

To ensure that the results of the research were valid and reliable, the study used triangulation,
as this approach strengthens any given study by combining different methods, as it involves
the use of various methods or data, including the use of both qualitative and quantitative
techniques.

CORRECT AND RESUBMIT.